While underfunded pensions are a problem, they pale in
comparison to the underfunding of other post-employment benefits. These
benefits are “comprehensive group medical, prescription drug, hearing, dental
and vision coverages for retirees and beneficiaries,” according to the MPSERS
annual actuarial valuation report for health benefits in 2010.[40] Michigan provides health insurance coverage
to MPSERS retirees in an amount that depends on the years of service they
earned and when they were hired. At the maximum, the state pays 90 percent
of the cost of the premium.[41]

With these “other post-employment benefits” —
frequently called “OPEB” — the state has not set money aside as the benefits
are earned, as it has tried to do with pension benefits. Instead, it assesses
additional contributions from MPSERS employers to pay for the bills of retirees
as they come due — a “pay-as-you go” approach, rather than prepayment.[42] In the Michigan Constitution, there is no
requirement to prefund OPEB, as there is for pensions.

Under the state’s
current policies, state actuaries project that the present value of all future payments for benefits already earned
under the state’s current policies exceed the present value of the few state
assets set aside for these benefits by between
$16.7 billion and $27.6 billion.[*], [43] The magnitude
of this gap is similar to the state’s $17.6 billion unfunded liability for
MPSERS defined-benefit pension plan.[44]

To cover the pay-as-you-go costs of providing other
post-employment benefits in fiscal 2012 and fiscal 2013, the state is requiring
school districts to pay to MPSERS amounts equivalent to 8.5 percent of
payroll and 8.75 percent of payroll, respectively. In fiscal 2011, the
state set aside $958.8 million to cover this benefit.[45]

The state has latitude to change this benefit for
current members and retirees alike. Unlike public employee pension benefits,
these retirement benefits are not protected by the Michigan Constitution.[†]
Moreover, retiree medical care is a benefit that is rarely afforded in the
private-sector. In a 2010 Mackinac Center Policy Brief, actuary Richard C.
Dreyfuss found that only three of a sample of 24 major Michigan private-sector
employers provided this benefit to members.[46]
A key reason such benefits are uncommon is that once retirees get to age 65,
they are entitled to Medicare benefits that cover a substantial portion of
their health expenses.[‡]

Instead of levying substantial payments on schools and
taxpayers for benefits that few private-sector taxpayers can afford, and rather
than committing taxpayers and school districts to substantial long-term risk
and financial expense, policymakers could scale back this benefit. The
Legislature can use the savings to catch up on financing earned pension
benefits, which, unlike OPEB, cannot be reduced under the Michigan
Constitution.

The level of savings from this would depend on how
much health care expenses increase in the future, how much legislators cut back
this benefit and whether the reforms are applied to current retirees or to
future ones only. In fiscal 2011, MPSERS employers paid $795 million to
retiree medical care benefits. The first-year “transition cost” would be
$360 million — nearly half of the 2011 retiree medical coverage payments.

This figure does not mean legislators would need to
cut retiree medical costs in half, since reductions to retiree medical coverage
would not have to net $360 million in savings each year. The “transition
cost” for the amortization payments is lower in subsequent years, and the
Legislature has already set aside $133 million that can be used to
mitigate the upfront “transition costs.”

It is worth noting that the state has scaled retiree
medical benefits back in the past. The state's 1996 reforms revised MSERS retiree benefits to require 30 years of service before an employee
received 90 percent of a retiree’s health care premium, with employees
earning 3 percent of the health care premium for each year of service.
Previously, an employee was fully vested in retiree health benefits after just
10 years of service.[47]

[*] Note that MSERS has a similar OPEB gap
between assets set aside and benefits earned under the state’s current
policies. Also note that the Legislature has closed the MSERS OPEB plan to new
members as of Jan. 1, 2012. These MSERS members are instead offered a higher
employer payment to their defined-contribution plan and a small deposit to a
health reimbursement account upon retirement. Bethany Wicksall, “A Summary of
House Bills 4701 and 4702 as Enacted,” (Michigan House Fiscal Agency, 2011),
http://goo.gl/siUab (accessed March 4, 2012).

[‡] It should
be noted that the most important determinant of health does not appear to be
the expense of health insurance. See Robert H. Brook et al., “The Effect of
Coinsurance on the Health of Adults: Results from the Rand Health Insurance
Experiment,” (The RAND Corporation, 1984),
http://www.rand.org/pubs/reports/2006/R3055.pdf (accessed Jan. 24, 2012). Thus,
while retiree medical insurance benefits may reduce the financial risk
attendant on paying for health care, the health benefits are likely
inconsequential, especially given the availability of Medicare.